Running a business is a lot of work! When you're just getting started, one of the things you need to consider is owner's compensation - or how to pay yourself for your time and effort. How should you take the money? When should you start paying yourself? How much is too much or too little? We consider these questions here.
Best Method of Compensation
When considering taking out owner's compensation, you should decide the best method to do so. Business.com says that you can either pay yourself a salary or take an owner's draw.
Salary
You may prefer to pay yourself a salary if you own an S or C Corporation. This way, tax withholdings and benefit payments will automatically be deducted.
- S Corporations
If you perform essential functions for an S-Corp, you need to pay yourself a salary that's comparable to what professionals in similar roles are paid. With an S-Corp, shareholders have tax liability. You can also receive an additional distribution on the company's profits, which is not subject to withholding but should not be large compared to your salary.
- C Corporations
Much like an S-Corp, if you are heavily involved in managing the C-Corp, you're considered an employee and must pay yourself a salary. You can also pay yourself a distribution, but these are subject to income taxes.
- Sole proprietorships
- Partnerships
You can take a distributive share, but you can't be paid a salary. Your portion of taxes to pay on business profits is determined by your personal agreement with other partners.
Timeline of When You Should Begin to be Compensated
It's common for small business owners to not take any compensation during the first few years of being in business. It's during this time that your business either starts to settle into either growth patterns or profits plateau. Don't wait too long though! Without factoring in your compensation, your books will not be entirely accurate, and you will not be able to make informed business decisions.
Businessnewsdaily.com says that you need to ask three questions to determine if you're ready to start paying yourself:
- "Do I have sustained revenue?"
- "Do I have steady projected revenue?"
- "Is my business in the black?"
If the answer to all three is "yes", then you can afford to start paying yourself.
Amount of Compensation
When you start a company, you perform most - if not all - of the roles. How much should you pay yourself for your hard work? There's no set formula or clear answer for this. Ultimately, you need to find the happy medium between paying yourself enough to avoid burnout and paying yourself so much that you're taking away from the business's growth potential.
In the Beginning
A good way to start is to create a budget for yourself outside of the business. What does it take to pay your bills and maintain your lifestyle? You'll want to stay on the modest side of that for a while. This number is one that your accountant can help you with as well, since they know your finances inside and out.
Periodic Check-Ins
Later on, you should review your compensation to make sure your personal cut of profits grows with the company. Are you happy with what you're making? You are your business's most essential worker, so your compensation should be treated as a critical part of your retention. Once again, be sure not to overcompensate yourself.
Ready to learn more?
Starting up your business is difficult if you wear many hats! If you don’t have time to do it all yourself, partner with a monthly accounting service like CSI Accounting & Payroll to help with your finances and business advice.
You'll get a profit and loss sheet, balance statement, and accurate account reconciliation every month, ensuring that you have the financial information to make the best choices for your company. Click the button below for a free consultation.
